Expectation Traps and Monetary Policy.

Albanesi, Stefania; Chari, V. V .; Christiano, Lawrence J .

Why is inflation persistently high in some periods and low in others? The reason may be the absence of commitment in monetary policy. In a standard model, absence of commitment leads to multiple equilibria, or expectation traps, even without trigger strategies. In these traps, expectations of high or low inflation lead the public to take defensive actions, which then make accommodating those expectations the optimal monetary policy. Under commitment, the equilibrium is unique and the inflation rate is low on average. This analysis suggests that institutions which promote commitment can prevent high inflation episodes from recurring.

MONETARY policy; PRICE inflation; EQUILIBRIUM; MONOPOLIES; DIRECT costing

Review of Economic Studies, 2003, Vol 70, Issue 4, p715

0034-6527

Academic Journal

10.1111/1467-937X.00264